what to buy in a taxable account

[dmlr06]

Hi, I am looking to put about 1/3 to 1/2 of my emergency fund in a taxable account.  It just saddens me that my emergency fund doesn't even keep up with inflation.  My goal is 4-5% and don't expect to need it - ever hopefully; it's just there if I unexpectedly can't work for a prolonged period.  I have the other 1/2 to 2/3 of the fund in a bank. My tax bracket is 28%; I live in a state without state income tax. I will probably use fidelity for continuity since my retirement fund is there.

What should I buy?
I was thinking the following but am not really sure.  Most of my reading has been on retirement, tax-advantaged accounts.
25% FSTVX Fidelity Total Market Index Fund
25% FTIPX Fidelity Total International Index
50% bond funds - I'm really lost on the bonds here. Looking at 1) Fidelity US bond index fund - FBIDX. OR Fidelity Intermediate Treasury Bond Index FIBAX.

I realize that these bond funds are not tax-efficient. However, my thought is that I'm currently paying tax on my measly savings earnings... why not earn a higher interest rate since I'm paying taxes on it anyway?  None of the municipal bond funds I saw generated much interest - which sort of negates taking it out of savings in the first place, right?  Or am I looking at it wrong?

Thanks in advance!

[huruta]

I'm interested in what others recommend as well. We are setting up our first taxable account with Vanguard. Purpose is not retirement but like yours to get a better return - 4-5% on cash we are sitting on but don't have an intended use for. We are not that interested in being that high risk so are thinking of a 50%/50% split with 50% Vanguard total stock market or Vanguard S&P 500 + 50% some Vanguard intermediate bond funds. We don't expect the bonds to do much except help mitigate big movement in the market that happen with the stocks.

[DMFA]

https://www.bogleheads.org/wiki/Tax-efficient_fund_placement

If you need to preserve the cash and just want to beat inflation a bit, then bonds would not be too bad except for the tax burden - you can get around that by using municipal bonds.  Otherwise stick to a index trackers with low turnover and dividends, especially one intended specifically for taxable accounts (Vanguard has a few of these called "Tax-Managed").

The downside to this is that you expose your emergency savings to market risk and decrease their immediate liquidity, which imo is the basis of an emergency fund.  I leave about a month's worth as pure cash in the same bank as my checking for true *right now* emergencies.  You can always get emergency credit if need be, but that's not immediate (and obv it's got to be paid back).  You should have every dollar you can working for you instead of just hanging around.

Also, your Roth IRA can be used for penalty-free withdrawal of principal (not earnings) if absolutely needed.

[conniebird]

Feel like there are two questions here-

First a lot of ppl won't agree with your decision to put part of your efund into the market. It is generally agreed that it should be in cash in a bank. But, my view on where the efund should be (besides cash) has been evolving. Betterment has an article about having 130% of your efund in the market, the extra 30% to account for market volatility. Some peeps just have 1-3 months in cash, and rest tied up in HELOC or credit cards. At the moment, I think I'm still a 100% cash kind of efund person.

Otherwise agree with above re: tax efficiency.

 

I don't have a taxable account yet but planning to market funds at Vanguard, but part of me wants to open one at Betterment.

[PhysicianOnFIRE]

If you want to be more aggressive with your emergency fund, be sure the portion invested in equities is large enough to withstand a significant drop and still leave you with enough funds to cover an emergency. Personally, I think it's fine to have only a few thousand in cash with a large taxable account. That's what I do. I keep enough in checking / savings to cover a month or two, and I'm up to about 200 months in expenses in the taxable account, all stock index funds. There are other ways to access money emergently, like HELOC, credit cards, etc...

As above, the only bonds or bond funds to consider in a taxable account are munis.

Best,

-PoF

[WealthyDoc]

DMFA wrote:

https://www.bogleheads.org/wiki/Tax-efficient_fund_placement

If you need to preserve the cash and just want to beat inflation a bit, then bonds would not be too bad except for the tax burden – you can get around that by using municipal bonds.  Otherwise stick to a index trackers with low turnover and dividends, especially one intended specifically for taxable accounts (Vanguard has a few of these called “Tax-Managed”).

The downside to this is that you expose your emergency savings to market risk and decrease their immediate liquidity, which imo is the basis of an emergency fund.  I leave about a month’s worth as pure cash in the same bank as my checking for true *right now* emergencies.  You can always get emergency credit if need be, but that’s not immediate (and obv it’s got to be paid back).  You should have every dollar you can working for you instead of just hanging around.

Also, your Roth IRA can be used for penalty-free withdrawal of principal (not earnings) if absolutely needed.

Click to expand...

The Vanguard Tax Managed Balanced Fund seems perfect.  It is about 50:50, low cost, and has minimal capital gains.

http://www.morningstar.com/funds/XNAS/VTMFX/quote.html

[dmlr06]

In regards to the municipal bonds - Yes, I get that they are better for taxes, but the yield is so much lower!  Wouldn't it be better to choose a bond fund that is expected to have double the return of the muni bonds and just pay taxes on the gains?  Wouldn't I still get ahead by doing that?

That betterment article is one thing that got me thinking about putting some of my emergency fund to work for me.  I am mitigating the market risk by only putting a portion of it into a taxable account.  We will still have months of living expenses as cash.

VTMFX does seem perfect.  I may do the account at vanguard for that.   Looking to see if Fidelity has something comparable for simplicity since my retirement account is there...

[childay]

So you don't currently have any taxable investments?

[dmlr06]

Correct - our cash is in banks.  Well, I put a little bit into real estate crowdfunding.  But we don't have any in the market yet.

[DMFA]

Yeah, VTMFX is a solid fund choice for what you seem to want to do, half large-cap equities tracking the Russell 1000, half bonds tracking Barclays Muni index.  Morningstar loves it - 5-star among 30-50 mixes, gold medal overall.  http://www.morningstar.com/cover/videocenter.aspx?lineup=stocks&id=770671

However, if you want to adjust your asset allocation (i.e. more or less bonds) or sell your munis tax-free and not pay tax on your stock portion, you might be better served with two separate funds in VTCLX (the stock half, 4-star, gold) and VTEAX (the bond half, unrated).  They are not identical in their portfolios, however, but it does offer you that greater flexibility.

You can't guarantee a good bond return - there's always credit risk and inflation risk.  Also, the reason why bond funds are so poor in taxable funds is that the way that bond funds give people money is from dividends on the interest paid on the debts (they hardly increase their intrinsic value at all), so unlike the equities which can be more tax-efficient by not paying dividends (i.e. growth stocks), your bond holdings only grow by paying dividends (like a near-100% value stock).  The dividends are taxed at normal income instead of LTCG, so you can basically lop 28% off of that (plus whatever your capital gains are).

Remember, though, that nothing is ever completely safe.  Like others said above, you can't ever say that you'll need a big wad of cash immediately and should certainly hold some as cash in a simple savings account.

[huruta]

dmlr06 wrote:

In regards to the municipal bonds – Yes, I get that they are better for taxes, but the yield is so much lower!  Wouldn’t it be better to choose a bond fund that is expected to have double the return of the muni bonds and just pay taxes on the gains?  Wouldn’t I still get ahead by doing that?

That betterment article is one thing that got me thinking about putting some of my emergency fund to work for me.  I am mitigating the market risk by only putting a portion of it into a taxable account.  We will still have months of living expenses as cash.

VTMFX does seem perfect.  I may do the account at vanguard for that.   Looking to see if Fidelity has something comparable for simplicity since my retirement account is there…

Click to expand...

This is my understanding re: muni bonds as well. Maybe we are missing something? 28% of a 4% return still gets one ~3% which isn't bad.

Also, don't you want your bonds and stocks separate? It seems like they could follow very different tax loss trajectories and you might want to harvest one but not the other. It seems like separation of the two gives maximum flexibility with good diversification. Why would one not want to have stocks and bonds be in separate accounts?

BTW, we are not using our emergency fund but may in the future following PoF's approach.